OMAN ARAB BANK SAOC. Report and financial statements for the year ended 31 December 2017

Transcription

1 OMAN ARAB BANK SAOC Report and financial statements for the year ended 31 December 2017

2 OMAN ARAB BANK SAOC Report and financial statements for the year ended 31 December 2017 Page Independent auditor s report 1-5 Statement of financial position 6 Statement of comprehensive income 7 Statement of changes in equity 8-9 Statement of cash flows 10 Notes to the financial statements 11-72

3 INDEPENDENT AUDITOR S REPORT TO THE SHAREHOLDERS OF OMAN ARAB BANK SAOC Report on the audit of the financial statements Opinion We have audited the financial statements of (the Bank ), which comprise the statement of financial position as at 31 December 2017, and the statement of comprehensive income, statement of changes in equity and statement of cash flows for the year then ended, and notes to the financial statements, including a summary of significant accounting policies. In our opinion, the accompanying financial statements present fairly, in all material respects, the financial position of the Bank as at 31 December 2017 and its financial performance and cash flows for the year then ended in accordance with International Financial Reporting Standards (IFRS). Basis for opinion We conducted our audit in accordance with International Standards on Auditing (ISAs). Our responsibilities under those standards are further described in the Auditor s responsibilities for the audit of the financial statements section of our report. We are independent of the Bank in accordance with the International Ethics Standards Board for Accountants Code of Ethics for Professional Accountants (IESBA Code) together with the ethical requirements that are relevant to our audit of the financial statements in the Sultanate of Oman, and we have fulfilled our other ethical responsibilities in accordance with these requirements and the IESBA Code. We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our opinion. Key audit matters Key audit matters are those matters that, in our professional judgment, were of most significance in our audit of the financial statements of the current period. These matters were addressed in the context of our audit of the financial statements as a whole, and in forming our opinion thereon, and we do not provide a separate opinion on these matters. For each matter below, our description of how our audit addressed the matter is provided in that context. We have fulfilled the responsibilities described in the Auditor s responsibilities for the audit of the financial statements section of our report, including in relation to these matters. Accordingly, our audit included the performance of procedures designed to respond to our assessment of the risks of material misstatement of the financial statements. The results of our audit procedures, including the procedures performed to address the matters below, provide the basis for our audit opinion on the accompanying financial statements.

4 INDEPENDENT AUDITOR S REPORT TO THE SHAREHOLDERS OF OMAN ARAB BANK SAOC (CONTINUED) Key audit matters (continued) Key audit matter Impairment provision for loans and advances and financing to customers Impairment of loans and advances and financing to customers (loans and receivables) is a highly subjective area due to the level of judgement applied by management in determining the extent of credit losses which is dependent on the credit risk related to such loans and receivables. The judgements applied by the management in determining the level of impairment for loans and receivables include the identification of events that could possibly result in an impairment, an appropriate valuation of the related collateral, the assessment of customers that are likely to default, and the future cash flows relating to loans and receivables. Due to the material nature of loans and receivables and the related estimation uncertainties involved, including the consideration of prudential requirements, this is considered a key audit matter. The basis of the Bank s impairment provision policy is presented in the accounting policies section and in Note (a) to the financial statements. Attention is also drawn to the critical accounting estimates and judgements, disclosures of loan receivables and the credit risk management set out in notes 3.1, 9 and 5.1 to the financial statements. How our audit addressed the key audit matter Our audit procedures included the assessment of controls over the granting, booking and monitoring processes of loans and receivables, and the specific and collective impairment provisioning process, including consideration of prudential requirements, to validate the operating effectiveness of the key controls in place, which identify the impaired loans and receivables and the required provisions against them. As part of the control testing procedures, we assessed whether the key controls in the above processes were designed, implemented and operated effectively. In addition to testing the key controls, we selected samples of loans and receivables outstanding as at the reporting date and critically assessed the criteria for determining whether an impairment event had occurred that would require an impairment provision. For the samples selected, we also verified whether all impairment events as identified by us had also been identified by the Bank s management. Our selected samples also included non-performing loans and receivables where we assessed management s forecast of recoverable cash flows, the valuation of collaterals, estimates of recovery on default and other sources of repayment. For the performing loans and receivables, we assessed whether the borrowers exhibited any possible default risk that may affect meeting their scheduled repayment obligations. For collective impairment provisions, we obtained an understanding of the methodology used by the Bank to determine the collective provisions, assessed the underlying assumptions and sufficiency of the data used by management. We also assessed whether the financial statement disclosures appropriately reflect the requirements of IFRS.

5 INDEPENDENT AUDITOR S REPORT TO THE SHAREHOLDERS OF OMAN ARAB BANK SAOC (CONTINUED) Key audit matters (continued) Key audit matters Impairment of available for sale investments The Bank s available-for-sale portfolio comprises investments made in equity and debt instruments. Investments are impaired only when there is an objective evidence of impairment. We considered impairment of available-for-sale investment as key audit matter due to subjectivity involved in such determination and its materiality to the financial statements. The accounting policies relating to available-for-sale investments, critical accounting estimates and judgements, and the disclosures relating to impairment of available-for-sale investments and fair value measurement are set out in notes 2.3.4, 3.2 and 10 to the financial statements. Our audit procedures comprised, amongst others, of a critical assessment of the Bank s methodology and the appropriateness of the impairment computation performed by the management on the Bank s available-for-sale investments. We evaluated the Bank s assessment of whether any objective evidence of impairment exists for each investments. Fee income How our audit addressed the key audit matters For equity investments, on a sample basis, we: Assessed the appropriateness of management criteria for determining the significant or prolonged decline in the value of investments; Evaluated the basis for determining the fair value of investments; Tested the valuations of investments; and Considered the price fluctuation / movement during the holding period to determine if the significant or prolonged criteria is met. For debt instruments, on a sample basis, we assessed the creditworthiness of counter parties based on available market information and assessed the cash flows to consider any defaults based upon the contractual terms and conditions of the instruments. We also assessed the appropriateness of the disclosures in the financial statements in accordance with IFRS. Our audit procedures, among others, included the following: The recognition of fee income depends on the purpose for which fees are assessed and the basis of accounting for any related financial instrument. Management applies certain assumptions and judgements to determine the fees that are an integral part of the effective interest rate of a financial instrument, fees that are earned as services are provided, and fees that are earned upon execution of a significant act. We considered this as a key audit matter since the use of management assumptions and judgements could result in a material over / under statement of Bank s profitability. The significant accounting policies relating to fee income are set out in note 2.17 to the financial statements. We assessed the design and implementation and tested the operating effectiveness of key controls over the consistent application of management s assumptions and judgments to determine the fees that are an integral part of the effective interest rate of a financial instrument, fees that are earned as services are provided, and fees that are earned upon execution of a significant act. We challenged the assumptions and judgments used by the management for fee income recognition. We also obtained details of significant items of fee income recorded by the Bank and assessed the appropriateness of related accounting treatment. For such significant transactions, we traced the data used by the management to the underlying accounting records.

6 INDEPENDENT AUDITOR S REPORT TO THE SHAREHOLDERS OF OMAN ARAB BANK SAOC (CONTINUED) Other information included in the Bank s 2017 Annual Report Those charged with governance and management are responsible for the other information. Other information consists of the information included in the Bank s 2017 Annual Report other than the financial statements and our auditor s report thereon. We obtained the following information prior to the date of our auditor s report, and we expect to obtain the published 2017 Annual Report after the date of our auditor s report: Corporate governance report Management discussion and analysis Financial statements of the Islamic Banking Window Basel II Pillar III and Basel III Report of the Bank Basel II Pillar III and Basel III Report of the Islamic Banking Services Our opinion on the financial statements does not cover the other information and we do not and will not express any form of assurance conclusion thereon. In connection with our audit of the financial statements, our responsibility is to read the other information and, in doing so, consider whether the other information is materially inconsistent with the financial statements or our knowledge obtained in the audit or otherwise appears to be materially misstated. If, based on the work we have performed on the other information obtained prior to the date of the auditor s report, we conclude that there is a material misstatement of this other information, we are required to report that fact. We have nothing to report in this regard. Responsibilities of management and those charged with governance for the financial statements Those charged with governance are responsible for the preparation and fair presentation of the financial statements in accordance with IFRS and the relevant requirements of the Commercial Companies Law of 1974, as amended, and the Capital Market Authority ( the CMA ) of the Sultanate of Oman, and for such internal control as those charged with governance determines is necessary to enable the preparation of financial statements that are free from material misstatement, whether due to fraud or error. In preparing the financial statements, those charged with governance are responsible for assessing the Bank s ability to continue as a going concern, disclosing, as applicable, matters related to going concern and using the going concern basis of accounting unless those charged with governance either intends to liquidate the Bank or to cease operations, or has no realistic alternative but to do so. Those charged with governance are responsible for overseeing the Bank s financial reporting process. Auditor s responsibilities for the audit of the financial statements Our objectives are to obtain reasonable assurance about whether the financial statements as a whole are free from material misstatement, whether due to fraud or error, and to issue an auditor s report that includes our opinion. Reasonable assurance is a high level of assurance, but is not a guarantee that an audit conducted in accordance with ISAs will always detect a material misstatement when it exists. Misstatements can arise from fraud or error and are considered material if, individually or in the aggregate, they could reasonably be expected to influence the economic decisions of users taken on the basis of these financial statements.

7 INDEPENDENT AUDITOR S REPORT TO THE SHAREHOLDERS OF OMAN ARAB BANK SAOC (CONTINUED) Auditor s responsibilities for the audit of the financial statements (continued) As part of an audit in accordance with ISAs, we exercise professional judgment and maintain professional skepticism throughout the audit. We also: Identify and assess the risks of material misstatement of the financial statements, whether due to fraud or error, design and perform audit procedures responsive to those risks, and obtain audit evidence that is sufficient and appropriate to provide a basis for our opinion. The risk of not detecting a material misstatement resulting from fraud is higher than for one resulting from error, as fraud may involve collusion, forgery, intentional omissions, misrepresentations, or the override of internal control. Obtain an understanding of internal control relevant to the audit in order to design audit procedures that are appropriate in the circumstances, but not for expressing an opinion on the effectiveness of the Bank s internal control. Evaluate the appropriateness of accounting policies used and the reasonableness of accounting estimates and related disclosures made by management. Conclude on the appropriateness of those charged with governance use of the going concern basis of accounting and, based on the audit evidence obtained, whether a material uncertainty exists related to events or conditions that may cast significant doubt on the Bank s ability to continue as a going concern. If we conclude that a material uncertainty exists, we are required to draw attention in our auditor s report to the related disclosures in the financial statements or, if such disclosures are inadequate, to modify our opinion. Our conclusions are based on the audit evidence obtained up to the date of our auditor s report. However, future events or conditions may cause the Bank to cease to continue as a going concern. Evaluate the overall presentation, structure and content of the financial statements, including the disclosures, and whether the financial statements represent the underlying transactions and events in a manner that achieves fair presentation. We communicate with those charged with governance regarding, among other matters, the planned scope and timing of the audit and significant audit findings, including any significant deficiencies in internal control that we identify during our audit. We also provide those charged with governance with a statement that we have complied with relevant ethical requirements regarding independence, and to communicate with them all relationships and other matters that may reasonably be thought to bear on our independence, and where applicable, related safeguards. From the matters communicated with those charged with governance, we determine those matters that were of most significance in the audit of the financial statements of the current period and are therefore the key audit matters. We describe these matters in our auditor s report unless law or regulation precludes public disclosure about the matter or when, in extremely rare circumstances, we determine that a matter should not be communicated in our report because the adverse consequences of doing so would reasonably be expected to outweigh the public interest benefits of such communication. Report on other legal and regulatory requirements In our opinion, the financial statements comply, in all material respects, with the relevant disclosure requirements of the Commercial Companies Law of 1974, as amended, and CMA of the Sultanate of Oman. Sanjay Kawatra Muscat 2018

8 STATEMENT OF FINANCIAL POSITION Notes RO 000 RO 000 ASSETS Cash and balances with the Central Bank of Oman 7 161, ,106 Due from banks 8 108,868 30,080 Loans and advances and financing to customers 9 1,654,013 1,594,799 Investment securities , ,935 Other assets 11 46,280 45,401 Property and equipment 12 29,430 28,651 Total assets 2,138,999 2,065,972 LIABILITIES Due to banks 13 4,011 12,056 Deposits from customers 14 1,746,856 1,637,152 Other liabilities 15 57,693 59,503 Subordinated debt 17 20,000 70,000 Taxation 18 4,891 4,162 Total liabilities 1,833,451 1,782,873 EQUITY Share capital , ,000 Legal reserve 20 38,476 35,821 General reserve 21 25,560 25,560 Subordinated debt reserve 22 8,000 54,000 Special reserve 23 2,760 2,400 Cumulative changes in fair value (1,845) (72) Retained earnings 67,977 8,390 Total equity attributable to the equity holders of the Bank 275, ,099 Perpetual Tier 1 capital bonds 24 30,000 30,000 Total equity 305, ,099 Total equity and liabilities 2,138,999 2,065,972 Contingent liabilities and commitments 37(a) 897, ,639 The financial statements were authorised for issue by the Board of Directors on 23 January 2018 and signed by: Rashad Al-Musafir Deputy Chief Executive Officer Rashad Muhammed Al Zubair Chairman The accompanying notes 1 to 43 form part of these financial statements. 6

9 STATEMENT OF COMPREHENSIVE INCOME Year ended 31 December 2017 Notes RO 000 RO 000 Interest income 26 88,115 77,663 Interest expense 27 (32,516) (27,765) Net interest income 55,599 49,898 Fee and commission income - net 28 14,393 16,393 Investment income (loss) 29 1,140 (265) Other operating income 30 6,606 5,984 Total income 77,738 72,010 Operating expenses 31 (45,403) (44,792) Allowance for loan impairment 9(a) (8,276) (14,384) Recoveries/release from allowance for loan impairment 9(a) 8,132 6,705 Impairment of investments available-for-sale 10 (728) (2,336) Profit from sale of non-banking asset - 2 Profit before tax from continuing operations 31,463 17,205 Income tax expense 18 (4,916) (2,561) Profit for the year from continuing operations 26,547 14,644 Discontinued operations Profit after tax for the year from discontinued operations 32-9,882 Profit for the year 26,547 24,526 Other comprehensive (expense) income that will be reclassified to the profit or loss Net change in fair value of available-for-sale investments (2,501) 852 Recycling to profit or loss for impairment on available-for-sale investments 728 2,336 Other comprehensive (expense) income for the year (1,773) 3,188 Total comprehensive income for the year 24,774 27,714 Earnings per share: Basic and diluted (RO) The accompanying notes 1 to 43 form part of these financial statements. 7

10 STATEMENT OF CHANGES IN EQUITY Year ended 31 December 2017 Cumulative Perpetual Share capital Legal reserve General reserve Subordinated debt reserve Special reserve changes in fair value Retained earnings Sub-total Tier 1 capital bonds Total Notes RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 At 1 January ,000 35,821 25,560 54,000 2,400 (72) 8, ,099 30, ,099 Profit for the year ,547 26,547-26,547 Other comprehensive expense, net of tax (1,773) - (1,773) - (1,773) Total comprehensive income (expense) for the year (1,773) 26,547 24,774-24,774 Issue of bonus shares 19 7, (7,620) Transfer to special reserve (360) Transfer to legal reserve 20-2, (2,655) Transfer to retained earnings 22 - (50,000) - 50, Transfer to subordinated debt reserve ,000 - (4,000) Interest distribution of Perpetual Tier 1 capital bonds (2,325) (2,325) - (2,325) 134,620 38,476 25,560 8,000 2,760 (1,845) 67, ,548 30, ,548 The accompanying notes 1 to 43 form part of these financial statements. 8

11 STATEMENT OF CHANGES IN EQUITY (continued) Year ended 31 December 2017 Notes Cumulative Perpetual Share Legal General Subordinated Special changes in Retained Sub Tier 1 capital capital reserve reserve debt reserve reserve fair value earnings total bonds Total RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 RO 000 At 1 January ,000 33,368 26,560 40,000 - (3,260) 13, , ,019 Profit for the year ,526 24,526-24,526 Other comprehensive income, net of tax ,188-3,188-3,188 Total comprehensive income for the year ,188 24,526 27,714-27,714 Issue of share capital 19 11, ,000-11,000 Transfer to special reserve ,400 - (2,400) Transfer to legal reserve 20-2, (2,453) Transfer to retained earnings (1,000) , Transfer to subordinated debt reserve , (14,000) Issue of Perpetual Tier 1 capital bonds ,000 30,000 Issue expenses of Perpetual Tier 1 capital bonds (34) (34) - (34) Dividend paid (11,600) (11,600) - (11,600) At 31 December ,000 35,821 25,560 54,000 2,400 (72) 8, ,099 30, ,099 The accompanying notes 1 to 43 form part of these financial statements. 9

12 STATEMENT OF CASH FLOWS Year ended 31 December Notes RO 000 RO 000 Operating activities Profit before tax from continuing operations 31,463 17,205 Profit before tax from discontinuing operations Profit before tax 31,463 17,328 Adjustments: Depreciation 12 3,680 3,810 Impairment for credit losses 9(a) 8,276 14,384 Recoveries/release from impairment for credit losses 9(a) (8,132) (6,705) Allowance for impairment in available-for-sale investment 728 2,336 Income from held-to-maturity investments 26 (2,211) (1,408) Profit on sale of property and equipment 12 - (2) Change in fair value of financial assets at fair value through profit or loss 10 3 (21) Operating profit before working capital changes 33,807 29,722 Loans and advances and financing to customers (59,357) (82,907) Other assets (879) (4,545) Deposits from customers 109,704 35,990 Other liabilities (1,810) (12,796) Cash from (used in) operations 81,465 (34,536) Tax paid (4,187) (4,108) Net cash generated from (used in) operating activities 77,278 (38,644) Investing activities Proceeds from disposal of IMG 32-12,000 Held-to-maturity investments matured , ,790 Purchase of held-to-maturity investments 10 (354,484) (335,858) Purchase of investment available-for-sale 10 (17,037) (6,517) Financial assets at fair value through profit or loss 9 18 Proceeds from sale of investment available-for-sale 10 17,962 10,652 Income from maturing of held-to-maturity investments 26 2,211 1,408 Purchase of property and equipment 12 (4,460) (4,070) Proceeds from sale of property and equipment - 5 Net cash (used in) from investing activities (29,239) 14,428 Financing activities Proceeds from issue of share capital 19-11,000 Repayment of subordinated debt (50,000) - Proceeds from issuance of Perpetual Tier 1 capital bonds 22-30,000 Interest distribution of Perpetual Tier 1 capital bonds (2,325) - Dividends paid - (11,600) Net cash (used in) from financing activities (52,325) 29,400 Net (decrease) increase in cash and cash equivalents (4,286) 5,184 Cash and cash equivalents at the beginning of the year 270, ,446 Cash and cash equivalents at the end of the year , ,630 The accompanying notes 1 to 43 form part of these financial statements. 10

13 1. Legal status and principal activities ( the Bank or OAB ) was incorporated in the Sultanate of Oman on 1 October 1984 as a closed joint stock company. It is principally engaged in commercial banking activities through a network of branches in the Sultanate of Oman. The Bank operates in Oman under a banking licence issued by the Central Bank of Oman ( CBO ) and is covered by its deposit insurance scheme. The registered address of the bank is Muttrah Business District, P. O. Box 2010, Ruwi, Postal Code 112, Muscat, and Sultanate of Oman. The Bank s Islamic Banking window under the name Al Yusr, commenced operations from 14 July 2013 and operates under the Islamic banking licence granted by the CBO. The principal activities of Al Yusr is providing Shari a compliant financing, accepting Shari a compliant deposits and other activities permitted under CBO s regulated Islamic Banking Services as defined in the licensing framework. 2. Summary of significant accounting policies 2.1 Statement of compliance These financial statements have been prepared in accordance with International Financial Reporting Standards ( IFRS ), the applicable regulations of the CBO and the applicable requirements of the Commercial Companies Law of 1974, as amended. The Bank prepares a separate set of financial statements for its Islamic Banking Window (IBW) in accordance with the requirements of Section 1.2 of Title 3 of the Islamic Banking Regulatory Framework ( IBRF ) issued by CBO. The separate set of financial statements of its IBW are prepared in accordance with Financial Accounting Standards ("FAS") issued by Accounting and Auditing Organisation for Islamic Financial Institutions ("AAOIFI"), the Sharia Rules and Principles as determined by the Sharia Supervisory Board of the Islamic Window (the SSB ) and other applicable requirements of CBO. The IBW s financial statements are then converted into IFRS compliant financial statements and included in these financial statements. All inter branch balances and transactions have been eliminated. 2.2 Basis of preparation The financial statements are prepared under the historical cost convention, modified to include the measurement at fair value of the financial assets classified as investments available-for-sale, fair value through profit or loss and derivative financial instruments. The preparation of financial statements in conformity with IFRS requires the use of certain critical accounting estimates. It also requires management to exercise its judgment in the process of applying the Bank s accounting policies. The areas involving a higher degree of judgment or complexity, or areas where assumptions and estimates are significant to the financial statements are disclosed in note 3. The Bank presents its statement of financial position in descending order of liquidity, as this presentation is more appropriate to the Bank s operations. 2.3 Financial instruments initial recognition and subsequent measurement The Bank classifies its financial assets in the following categories: financial assets at fair value through profit or loss, loans and advances, held-to-maturity investments and available-for-sale investments. Management determines the classification of its investments at initial recognition. The Bank classifies its financial liabilities into deposits from customers, subordinated debts and due to banks. 11

14 2. Summary of significant accounting policies (continued) 2.3 Financial instruments initial recognition and subsequent measurement (continued) Date of recognition All financial assets and liabilities are initially recognised on the trade date, i.e., the date that the Bank becomes a party to the contractual provisions of the instrument. This includes regular way trades : purchases or sales of financial assets that require delivery of assets within the time frame generally established by regulation or convention in the market place Initial measurement of financial instruments The classification of financial instruments at initial recognition depends on the purpose and the management s intention for which the financial instruments were acquired and their characteristics. All financial instruments are measured initially at their fair value plus transaction costs, except in the case of financial assets and financial liabilities recorded at fair value through profit or loss Financial assets at fair value through profit or loss Financial assets and financial liabilities classified in this category are those that have been designated by management upon initial recognition. Management may only designate an instrument at fair value through profit or loss upon initial recognition when the following criteria are met, and designation is determined on an instrument-by-instrument basis: Management may only designate an instrument at fair value through profit or loss upon initial recognition when the following criteria are met, and designation is determined on an instrument-byinstrument basis: The designation eliminates or significantly reduces the inconsistent treatment that would otherwise arise from measuring the assets or liabilities or recognising gains or losses on them on a different basis. The assets and liabilities are part of a group of financial assets, financial liabilities or both, which are managed and their performance evaluated on a fair value basis, in accordance with a documented risk management or investment strategy. The financial instrument contains one or more embedded derivatives, which significantly modify the cash flows that would otherwise be required by the contract. Financial assets and financial liabilities at fair value through profit or loss are recorded in the statement of financial position at fair value. Changes in fair value are recorded in investment income -net. Interest earned or incurred is accrued in interest income or interest expense, respectively, using the EIR, while dividend income is recorded in investment income net, when the right to the payment has been established Available-for-sale investments Available-for-sale investments include equity and debt securities. Equity investments classified as available-for-sale are those which are neither classified as held for trading nor designated at fair value through profit or loss. Debt securities in this category are intended to be held for an indefinite period of time and may be sold in response to needs for liquidity or in response to changes in the market conditions. 12

15 2. Summary of significant accounting policies (continued) 2.3 Financial instruments initial recognition and subsequent measurement (continued) Available-for-sale investments (continued) The Bank has not designated any loans or receivables as available-for-sale. After initial measurement, available-for-sale financial investments are subsequently measured at fair value. Unrealised gains and losses are recognised directly in equity (other comprehensive income) in the cumulative changes in fair value. When the investment is disposed of, the cumulative gain or loss previously recognised in equity is recognised in the profit or loss in other operating income. Where the Bank holds more than one investment in the same security, they are deemed to be disposed of on a first in first out basis. Interest earned whilst holding available-for-sale financial investments is reported as interest income using the effective interest rate. Dividends earned whilst holding available-for-sale financial investments are recognised in the profit or loss as other operating income when the right of the payment has been established. The losses arising from impairment of such investments are recognised in the profit or loss in Impairment of investments available-for-sale and removed from the cumulative changes in fair value of investments available-for-sale Held-to-maturity investments Held to maturity financial assets are non-derivative assets with fixed or determinable payments and fixed maturity that the Bank has the positive intent and ability to hold to maturity and which are not designated at fair value through profit or loss or available-for-sale. These are initially recognised at fair value including direct and incremental transaction costs and measured subsequently at amortised cost, using the effective interest method. Interest on held to maturity investments is included in the statement of comprehensive income and reported as interest income. In the case of impairment, the impairment loss is been reported as a deduction from the carrying value of the investment and recognised in the statement of comprehensive income. Held to maturity investments are government development bonds and treasury bills Loans and advances to customers and due from banks Loans and receivables to customers and due from banks are non-derivative financial assets with fixed or determinable repayments that are not quoted in an active market. Loans and receivables are initially recognised at fair value which is the cash consideration to originate or purchase the loan including any transaction costs and measured subsequently at amortised cost using the effective interest rate method. Interest on loans is included in the statement of comprehensive income and is reported as interest income. In the case of an impairment, the impairment loss is reported as a deduction from the carrying value of the loan and recognised in the statement of comprehensive income as Impairment for credit losses Fair value measurement principles A number of the Bank s accounting policies and disclosures require the determination of fair value, for both financial and non-financial assets and liabilities. Fair values have been determined for measurement and/or disclosure purposes based on a number of accounting policies and methods. Where applicable, information about the assumptions made in determining fair values is disclosed in the notes specific to that asset or liability. 13

16 2. Summary of significant accounting policies (continued) 2.3 Financial instruments initial recognition and subsequent measurement (continued) Fair value measurement principles (continued) Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The fair value measurement is based on the presumption that the transaction to sell the asset or transfer the liability takes place either: In the principal market for the asset or liability, or In the absence of a principal market, in the most advantageous market for the asset or liability The principal or the most advantageous market must be accessible to the Bank. The fair value of an asset or a liability is measured using the assumptions that market participants would use when pricing the asset or liability, assuming that market participants act in their economic best interest. A fair value measurement of a non-financial asset takes into account a market participant's ability to generate economic benefits by using the asset in its highest and best use or by selling it to another market participant that would use the asset in its highest and best use. The Bank uses valuation techniques that are appropriate in the circumstances and for which sufficient data are available to measure fair value, maximising the use of relevant observable inputs and minimising the use of unobservable inputs. All assets and liabilities for which fair value is measured or disclosed in the financial statements are categorised within the fair value hierarchy, described as follows, based on the lowest level input that is significant to the fair value measurement as a whole: Level 1 Quoted (unadjusted) market prices in active markets for identical assets or liabilities Level 2 Valuation techniques for which the lowest level input that is significant to the fair value measurement is directly or indirectly observable Level 3 Valuation techniques for which the lowest level input that is significant to the fair value measurement is unobservable. For assets and liabilities that are recognised in the financial statements on a recurring basis, the Bank determines whether transfers have occurred between Levels in the hierarchy by re-assessing categorisation (based on the lowest level input that is significant to the fair value measurement as a whole) at the end of each reporting period. At each reporting date, the Bank analyses the movements in the values of assets and liabilities which are required to be re-measured or re-assessed as per the Bank s accounting policies. For this analysis, the Bank verifies the major inputs applied in the latest valuation by agreeing the information in the Valuation computation to contracts and other relevant documents. The Bank also compares the changes in the fair value of each asset and liability with relevant external sources to determine whether the change is reasonable. For the purpose of fair value disclosures, the Bank has determined classes of assets and liabilities on the basis of the nature, characteristics and risks of the asset or liability and the level of the fair value hierarchy as explained above. 14

17 2. Summary of significant accounting policies (continued) 2.3 Financial instruments initial recognition and subsequent measurement (continued) De-recognition i) Financial assets A financial asset (or where applicable a part of a financial asset or part of a group of similar financial assets) is derecognised when: The rights to receive cash flows from the asset have expired; or The Bank has transferred its rights to receive cash flows from the asset or has assumed an obligation to pay the received cash flows in full without material delay to a third party under a pass-through arrangement; and either: - the Bank has transferred substantially all the risks and rewards of the asset, or - the Bank has neither transferred nor retained substantially all the risks and rewards of the asset, but has transferred control of the asset. When the Bank has transferred its rights to receive cash flows from an asset or has entered into a pass through arrangement, and has neither transferred nor retained substantially all of the risks and rewards of the asset nor transferred control of the asset, the asset is recognised to the extent of the Bank s continuing involvement in the asset. In that case, the Bank also recognises an associated liability. The transferred asset and the associated liability are measured on a basis that reflects the rights and obligations that the Bank has retained. Continuing involvement that takes the form of a guarantee over the transferred asset is measured at the lower of the original carrying amount of the asset and the maximum amount of consideration that the Bank could be required to repay. ii) Financial liabilities A financial liability is derecognised when the obligation under the liability is discharged or cancelled or expires. Where an existing financial liability is replaced by another from the same lender on substantially different terms, or the terms of an existing liability are substantially modified, such an exchange or modification is treated as a derecognition of the original liability and the recognition of a new liability, and the difference in the respective carrying amounts is recognised in profit or loss Identification and measurement of impairment of financial assets a) Assets carried at amortised cost The Bank assesses at each reporting date whether there is objective evidence that a financial asset or a group of financial assets is impaired. A financial asset or a group of financial assets is impaired and an impairment loss is incurred if, and only if, there is objective evidence of impairment as a result of one or more events that occurred after the initial recognition of the asset (a loss event ) and that loss event (or events) has an impact on the estimated future cash flows of the financial asset or group of financial assets that can be reliably estimated. Objective evidence that a financial asset or group of assets is impaired includes observable data that comes to the attention of the Bank about the following loss events as well as considering the guidelines issued by the CBO: significant financial difficulty of the issuer or obligor; a breach of contract, such as a default or delinquency in interest or principal payments; the Bank granting to the borrower, for economic or legal reasons relating to the borrower s financial difficulty, a concession that the lender would not otherwise consider; it becoming probable that the borrower will enter bankruptcy or other financial reorganisation; the disappearance of an active market for that financial asset because of financial difficulties; or observable data indicating that there is a measurable decrease in the estimated future cash flows from a group of financial assets since the initial recognition of those assets, although the decrease cannot yet be identified with the individual financial assets in the group, including adverse changes in the payment status of borrowers in the Bank, or national or local economic conditions that correlate with defaults on the assets in the Bank. 15

18 2. Summary of significant accounting policies (continued) 2.3 Financial instruments initial recognition and subsequent measurement (continued) Identification and measurement of impairment of financial assets (continued) a) Assets carried at amortised cost (continued) The Bank first assesses whether objective evidence of impairment exists individually for financial assets that are individually significant, and individually or collectively for financial assets that are not individually significant. If the Bank determines that no objective evidence of impairment exists for an individually assessed financial asset, whether significant or not, it includes the asset in a group of financial assets with similar credit risk characteristics and collectively assesses them for impairment. Assets that are individually assessed for impairment and for which an impairment loss is or continues to be recognised are not included in a collective assessment of impairment. If there is objective evidence that an impairment loss on loans and receivables or held-to-maturity investments carried at amortised cost has been incurred, the amount of the loss is measured as the difference between the asset s carrying amount and the present value of estimated future cash flows (excluding future credit losses that have not been incurred) discounted at the financial asset s original effective interest rate. The carrying amount of the asset is reduced through the use of an allowance account and the amount of the loss is recognised in the statement of comprehensive income. If a loan or held-to-maturity investment has a variable interest rate, the discount rate for measuring any impairment loss is the current effective interest rate determined under the contract. The calculation of the present value of the estimated future cash flows of a collateralised financial asset reflects the cash flows that may result from foreclosure less costs for obtaining and selling the collateral, whether or not foreclosure is probable. Future cash flows in a group of financial assets that are collectively evaluated for impairment are estimated on the basis of the contractual cash flows of the assets in the Bank and historical loss experience for assets with credit risk characteristics similar to those in the Bank. The methodology and assumptions used for estimating future cash flows are reviewed regularly by the Bank to reduce any differences between loss estimates and actual loss experience. When a loan is uncollectible, it is written off against the related allowance for loan impairment. Such loans are written off after all the necessary procedures have been completed and the amount of the loss has been determined. If in a subsequent period, the amount of impairment loss decreases and decrease can be related objectively to an event occurring after the impairment was recognised, the previously recognised impairment loss is reversed by adjusting the allowance account. The amount of the reversal is recognised in the profit or loss. 16

19 2. Summary of significant accounting policies (continued) 2.3 Financial instruments initial recognition and subsequent measurement (continued) Identification and measurement of impairment of financial assets (continued) b) Renegotiated loans Where possible, the Bank seeks to restructure loans rather than to take possession of collateral. This may involve extending the payment arrangements and the agreement of new loan conditions. Once the terms have been renegotiated, the loan is no longer considered past due. Management continuously reviews renegotiated loans to ensure that all criteria are met and that future payments are likely to occur. The loans continue to be subject to an individual or collective impairment assessment, calculated using the loan s original effective interest rate. 2.4 Cash and cash equivalents For the purposes of the statement of cash flows, cash and cash equivalents comprise balances with less than three months maturity from the date of acquisition, including: cash and non-restricted balances with the CBO, treasury bills and other eligible bills, loans and advances to banks, amounts due from other banks, amounts due to other banks and short-term government securities. Cash and cash equivalents are carried at amortised cost in the statement of financial position. 2.5 Offsetting of financial instruments Financial assets and financial liabilities are only offset and the net amount reported in the statement of financial position when there is a legally enforceable right to set off the recognised amounts and the Bank intends to either settle on a net basis or to realise the asset and settle the liability simultaneously. Income and expenses are presented on a net basis only when permitted by the accounting standards or for gains and losses arising from a group of similar transactions. 2.6 Property and equipment Property and equipment are initially recorded at cost and are subsequently carried at cost less accumulated depreciation and accumulated impairment losses, if any. Depreciation on the assets except land is calculated using the straight-line basis to allocate their cost over the estimated useful lives, as follows: Years Building 25 Equipment, furniture and fixtures 5 Motor vehicles 5 The assets residual values and useful lives are reviewed at each reporting date to assess whether they are recorded in excess of their recoverable amount, and where carrying values exceed this recoverable amount, assets are written down to their recoverable amount. Gains and losses on disposal of property and equipment are determined by reference to their carrying amount and are taken into account in determining operating profit. Repairs and renewals are charged to the statement of comprehensive income when the expense is incurred. Subsequent expenditure is capitalised only when it increases the future economic benefits embodied in the item of property and equipment. All other expenditure is recognised in the profit or loss as an expense as incurred. 17

20 2. Summary of significant accounting policies (continued) 2.7 Impairment of non-financial assets The Bank assesses at each reporting date whether there is an indication that an asset may be impaired. If any indication exists, or when annual impairment testing for an asset is required, the Bank estimates the asset s recoverable amount. An asset s recoverable amount is the higher of an asset s fair value less costs to sell and its value in use. Where the carrying amount of an asset exceeds its recoverable amount, the asset is considered impaired and is written down to its recoverable amount. In assessing value in use, the estimated future cash flows are discounted to their present value using a pre-tax discount rate that reflects current market assessments of the time value of money and the risks specific to the asset. In determining fair value less costs to sell, an appropriate valuation model is used. An assessment is made at each reporting date as to whether there is any indication that previously recognised impairment losses may no longer exist or may have decreased. If such indication exists, the Bank estimates the asset s recoverable amount. A previously recognised impairment loss is reversed only if there has been a change in the assumptions used to determine the asset s recoverable amount since the last impairment loss was recognised. The reversal is limited so that the carrying amount of the asset does not exceed its recoverable amount, nor exceeds the carrying amount that would have been determined, net of depreciation, had no impairment loss been recognised for the asset in prior years. Such reversal is recognised in the profit or loss. 2.8 Collateral pending sale The Bank rarely acquires real estate in settlement of certain loans and advances. Real estate is stated at the lower of the net realisable value of the related loans and advances and the current fair value of such assets. Gains or losses on disposal, and unrealised losses on revaluation, are recognised in the statement of comprehensive income. 2.9 Borrowings Borrowings are recognised initially at fair value, being their issue proceeds (fair value of consideration received) net of transaction costs incurred. Borrowings are subsequently stated at amortised cost; any difference between the proceeds, net of transaction costs, and the redemption value is recognised in the statement of comprehensive income over the period of the borrowings using the effective interest method. Fees paid on the establishment of loan facilities are recognised as transaction costs of the loan to the extent that it is probable that some or all of the facility will be drawn down. In this case, the fee is deferred until the draw-down occurs. To the extent there is no evidence that it is probable that some or all of the facility will be drawn down, the fee is capitalised as a pre-payment for liquidity services and amortised over the period of the facility to which it relates Perpetual bonds The Bank classifies capital instruments as financial liabilities or equity instruments in accordance with the substance of the contractual terms of the instrument. The Bank s perpetual bonds are not redeemable by holders and bear an entitlement to distribution that is non-cumulative and at the discretion of the board of directors. Accordingly, they are presented as component within equity. 18